Taxing the Rich
A few thoughts on the House Democrats’ still-evolving plan to pay for close to half of health reform by raising marginal rates on the highest earning taxpayers:
*By allowing the Bush tax cuts to expire, restoring the phase-outs of the personal exemption (PEP) and itemized deductions (Pease), and now by proposing a ‘surcharge” of 2 percent or more, Democrats would be boosting the top individual tax rate from the Bush-era 35 percent to nearly 45 percent, ever-closer to the 50 percent top rate of 1985.
*Top-bracket rate hikes would continue the troubling trend of adding loopholes and raising rates—what my former TPC colleague Gene Steuerle likes to call tax deform.
*By adding as many as 3 new brackets, we’d be up to 9 and closing in on the pre-1986 days of 14. It’s a long way from the 2 (really 3) of the Tax Reform Act.
*It will be almost impossible for Obama to cut the corporate tax rate as he has promised. Because it is easy for many partnerships, self-employed professionals, and others to change the legal form of their businesses to take advantage of the lowest tax rates, a top individual rate of 45 percent and a corporate rate of 25 percent or even 30 percent are probably untenable.
*Raising the top rates to pay for health reform would make President Obama's fiscal math approximately impossible. We’d have a top rate of nearly 45 percent, a promise never to raise taxes for those making less than $250,000 annually, little or no government revenue from a cap-and-trade system that gives away rather than auctions pollution credits, and trillion dollar deficits as far as the eye can see. Do you think anyone is sitting around the White House asking, “Does anybody know what the hell we are going to do next?”
*These rate hikes would take the income tax one more big step towards its breaking point. One day soon, we are going to have to seriously rethink a tax code that can no longer finance our demands.
*Why is asking just a few million people to pay for health reform a good thing?
I think you really have to start with the advantages of a VAT. The major advantage of the VAT is that the tax is imposed equally on domestic manufacturers and foreign manufacturers. Thus, the real incentive to push through a VAT is to make the U.S. more competitive in international trade. Granted, a VAT would hurt retail sales, restaurents and tourism.
Probably, the biggest problem that I see with our health insurance system right now is that domestic manufacturers pay the health care costs and foreign manufacturer's don't.
I think this issue needs to be addressed and the President's proposal does nothing to help in that regard.
Len, I took another look at your proposal and question why the 15% only filers are even counted as paying personal income taxes, since they do not file nor do a W-4 (although some form will be required to receive the child tax credit from the employer). With the 2.9% Health payroll tax eliminated, essentially you are calling for a 27.3% Business Income Tax with generous offsetting credits. The only apparent exposure to income taxation workers will have in that bracket will be the deductions on their leave and earnings statements, which I suspect will have an additional line for tax credits.
Much of the resistence people have to our current system is the visibility of a difference between their Gross and Net Incomes for taxes. While removing filing is a good step in overcoming resistence, I frankly don't see why it is not appropriate to go all the way into invisibility by putting the tax entirely on the employer and allowing them to adjust gross pay accordingly. Granted, a higher rate on payroll would be required, since the tax would be on total payroll rather than the mythical “before tax” payroll people think they are making.
I have some concerns about the progressivity of your higher rate as well. It is only 10% over the base 15% rate. If payroll taxes for OASDI are left capped, you essentially have the wealthy paying a proportional tax rate. Of course, if payroll taxes are uncapped, then they could be left in a Business Income Tax with the first 15% of the 25% tax rate you propose, leaving a 10% tax on wealthier taxpayers. This still seems low. I would urge maintenance of a range of tax rates for higher income payers – ranging from 3% if Obama keeps his word to not raise taxes on the moderately wealthy to 6% if he snaps out of such delusions – going all the way to 15% or even 20% (as the Ways and Means Committee would do).
Making the 10% VAT look like a health care tax while getting rid of the deductiblity of health insurance for businesses seems like too much disruption to me. Leaving health insurance taxation in the Business Income Tax seems like it would be less disruptive of the status quo. The VAT could then be identified with discretionary spending instead. This would confine the debate over discretionary spending and pork to the VAT, especially if entitlements and health care were linked to the business income tax – with offsetting credits if the employer provides equivalent services.
This would seem to be a more appropriate way to justify exempting exports from the VAT. A Business Income Tax would not be exempted at export because the importer on the other end is getting full benefit of social benefits paid to employees. Exempting a VAT which funds domestic spending (both military and civilian) does make sense, because the foreign importer does not get the benefit of these government expenditures.
Len, would the return free system merely automatically file or would it be like Michael Graetz's proposal, with no filing of any kind (beyond a payroll tax refund).
Also, would you be amenable to hiding some of the VAT in an employer-only business income tax (which is essentially a payroll tax which includes profit)? Does your proposal effect Corporate Income Taxes at all?
It sounds like the cash flows are similar between your plan, my plan and Michael Graetz's plan – although the names of the taxes are different.
To be clear, my prefered option is a VAT that finances all health insurance combined with fundamental tax reform, lowering top income tax rates to 25% and creating a return-free system for most. See my Virginia Tax Review paper.
You hit it on the head. However, the alternative is a new VAT and no other reform as Len Burman suggests (and which Congress won't do) or including Health Care as part of comprehensive tax reform, which would mean the Volker Panel would have to report their results next week without resorting to any public comment period.
Eventually, overall tax reform is essential. A VAT without it will tick off just enough conservatives to put Mitt Romney in the White House in 2012.
A comprehensive reform looks like what I have been talking about. A Business Income Tax devoted to health care, veterans, military retirement, child tax credit distribution and entitlement spending; a VAT for discretionary domestic military and civilian spending; a high income and inheritance tax at lower rates (since they assume inclusion of the BIT/VAT taxes) to pay for foreign military operations and deficit finance/debt repayment (including debts held by the government, like FICA).
Most people will notice a VAT, but will also notice that April 15 no longer has any fear, since for 80% or more families, there will be no tax form submission required.